Opportunity in Emerging Market Bonds

While low inflation is presenting a challenge for the Fed and the European Central Bank, it is playing out differently in emerging markets, according to a recent article in The Wall Street Journal. “Investors in local-currency government bonds are the winners,” it says, “and could have more to come.”

Although this year’s gains, the article says, are “flattered” by emerging market yields having been bolstered after the presidential election, “they are also the function of a fundamentally improving story for many emerging-market countries.”

Inflation is a key piece, says WSJ, offering data from Capital Economics showing that (as of July) 52 emerging-market economies experienced an all-time low inflation rate of 3%–but this might be a reflection of “underlying price pressures.” As such, central banks in these countries might be inclined to ease rates (in contrast to the Fed’s current plan to raising rates)—and given that rates in many countries are high, this offers room to maneuver. India, South Africa and Indonesia, for example, have cut rates in recent weeks.

In the realm of foreign exchange, however, there might be more risk. Concerns about rising rates in the U.S. could cause concern and be a “big problem for many emerging-market assets, and could reverse investment flows into these countries. But brighter growth prospects for emerging countries are a countervailing force.”